Between Umeme and Parliament

Why Parliament and government should be kept out of business to allow private investors to deliver electricity

Two weeks ago, an ad hoc committee of parliament recommended government cancels its contract with Umeme for the distribution of electricity in the country. The committee raises many complaints against the concession agreement and Umeme’s performance; a few correct, some legitimate, others completely wrong, many erroneous and most of them ill-informed.

In fact, by relying on many erroneous and ill-informed arguments to recommend an arbitrary cancellation of the concession, the committee inadvertently demonstrates why it was vital for Umeme to insist on the very provisions in the concession that parliament feels are unfair to the Ugandan people.

The background: when government decided to unbundle Uganda Electricity Board (UEB) into three separate entities to manage electricity generation, transmission and distribution, it hired an international company called Fieldstone Private Capital Group Limited to help handle the matter.

After two years of work, government put out a tender for generation and distribution concessions. Five companies expressed interest and came to Uganda to do a due diligence on the sector. After studying our political and regulatory framework all of them pulled out without submitting a bid.

What were the issues? They are largely of a political nature. Uganda had subsidised the electricity tariff for a very long time. The electricity tariff had remained unchanged from 1993 to 2002. The prevailing price then was far below the actual cost of generating, transmitting and distributing electricity; it’s value having been eroded by inflation and foreign exchange depreciation.

The country had also ignored or condoned rampant power thefts. Thirdly many people who were in default were not being taken to task. Note: in Kenya, for example, the electricity tariff is subject to constant adjustment every year to both domestic inflation and foreign exchange depreciation.

Consequently, Ugandan electricity consumers took it for granted that electricity was cheap and that its price could not change. Secondly, there had grown and consolidated a culture of impunity where thieves and defaulters could steal and/or refuse to pay and remain untouched.

These were causing high nontechnical losses in the sector. To compound this, UEB had spent decades with little or no investment in improving the distribution lines, transformers and meters. This had led to high technical losses making the sector unattractive to investors. UEB was a government parastatal and no one cared whether the tariff covered the costs of electricity production.

The solution to this conundrum was doubled edged: to reduce technical losses would demand heavy investment in upgrading the power lines and transformers, meters and even more investment in human resource. If any private investor did this, they would have to charge this cost through the tariff.

Second, to reduce nontechnical losses required that the investor would have to ruthlessly clampdown on power thefts by raiding homes and small businesses to apprehend illegal connections, hire a security force to curb thefts of power lines, transformers and tampering with metres and finally ruthlessly cut off power to many defaulting customers to force them to pay. This operation would destroy the image of any investor before his customers.

Besides these measures had political implications. Potential investors feared that the public would not accept increases in the tariff because a culture of consuming cheap electricity had penetrated the political consciousness of consumers. Investors complained that the regulator did not have capacity to make the independent decisions.

This is because the Electricity Regulatory Authority (ERA) had once increased the tariff and government intervened and suspended it. Indeed, if you look at the books of UEDCL, you will find a back-to-back debt it owes generation and transmission companies which has never been recovered. UEDCL could not collect money because the minister stopped it from doing so for political reasons.

The Commonwealth Development Corporation (CDC) put these issues in writing, rising issues of political risk, foreign exchange risk and revenue collection risk. However, they said that if these issues were addressed, they could bid. Government decided to talk to them.

After the bidding, they formed a consortium with Eskom, one of the other bidders. Both are parastatals, one owned by the British government, the other by the South African government. No private investor was willing to risk their capital in such a tense political climate.

The negotiations between government on one had and CDC and Eskom on the other lasted three years. Government promised to protect the investor from regulatory and political risks and the concession was designed by escalating the penalties government would pay in case of a breach.

This was the first distribution concession in Africa. CDC and Eskom feared that if anyone attempted to increase the tariff, especially at a steep rate, it would cause thefts, defaults and illegal connections. So the concession made it clear that government could not increase the tariff for more than 10% in any given year and not more than 20% in any three consecutive years.

Thus, although the public and parliament accuse Umeme of seeking to increase the tariff rapidly, Umeme has been against it and this is enshrined in the concession agreement. In fact rapid increases in the tariff are a violation of the concession, which should force Umeme to pull out.

The question then was: if the tariff was going to remain stable and change only by not more than 20 percent every three years, who was going to pay for the mismatch between the existing tariff and actual cost of production, transmission and distribution? The answer is government through the subsidy.

Even after government had agreed to these demands, Umeme was reluctant to join and asked for an 18 months concession as a trial run to see whether government would honour its word. They agreed to invest a nonrefundable $5 million in these 18 months.

Five months to the end of that period, in March 2005, power supply declined by 50 percent due to low water levels in Lake Victoria. This forced government to bring in thermal generators, a factor that escalated the cost of electricity, thus making increasing the price of subsidies.

To avoid bankruptcy, government decided to increase the tariff by 22 percent in March 2005, then 35 percent in May 2006 and another 43 percent in November 2006. Thus, in less than two years, government increased the tariff by 98 percent contrary to the concession agreement. Again, Umeme had all the rights to terminate the concession. Government would have been forced to compensate them fully. Indeed they threatened to do exactly that, a factor that triggered negotiations with government.

Umeme argued that such a sudden hike in the tariff was going to increase illegal connections and defaults, making it difficult for the company to reduce nontechnical losses. The result was that government suspended the loss reduction targets to keep Umeme involved. It is only after electricity supply constraints were eased in 2009 that ERA began to set collection and loss reduction targets. In 2009, losses fell from 35 percent to 30 percent and in 2010 they fell to 28 percent. This year the losses have fallen to 24 percent and in 2018, Umeme has a target to have reduced them to 14 percent.